Market Overview

The second quarter of 2025 provided investors with a vivid illustration of markets’ ability to “climb a wall of worry.”  Despite a geopolitical landscape characterised by some of the most challenging conditions in recent memory – including the highest US tariffs in nearly a century, three Middle Eastern conflicts, and direct US strikes on Iranian nuclear facilities – global equities delivered strong gains.

By the end of the quarter, the MSCI Global Equity Index had recovered all of the losses incurred following President Trump’s announcement of his “Liberation Day” tariffs on 2^nd April.  The rebound in equity markets is remarkable given the policy and geopolitical backdrop; historically, such developments tend to send equity markets into retreat and drive the US dollar higher.  Instead, the quarter produced the opposite: the dollar retreated and equity markets rallied – driven by industrials, financials, and technology stocks – with strength concentrated in those companies delivering robust earnings growth and with strong balance sheets.

So, while news headlines caused widespread concern, markets remained resilient.

Drivers of Resilience:

Corporate fundamentals

Expectations for global earnings (FactSet) indicated growth of around 13%, rising steadily throughout the quarter.  This positive outlook was supported by continued strength in the US economy and a weaker US dollar.  Companies are increasingly turning to technology, particularly artificial intelligence, to offset rising costs linked to tariffs and other trade barriers. In addition, there were record levels of share buybacks, which are supportive of company valuations.  Projected world dividend growth was also encouraging, with forecasts of over 10% for the year ahead.

Regional effects

In the US, while the tariff shock initially introduced uncertainty, the economy proved remarkably resilient.  Consumers have not yet felt the full pinch of higher import costs, and the risk of reduced spending in the quarters ahead still remains.  Lower income households will bear the brunt of Trump’s policies.

 

Combined Effects of the One Big Beautiful Bill Act and Tariffs
Annual change in household resources 2025 dollars (2026-2034)

Source: The Budget Lab at Yale

 

However, for many business sectors, the concern over the potential effect of tariffs was offset by Trump’s ‘One Big Beautiful Bill.”  For example, the technology, pharmaceuticals and manufacturing sectors are net beneficiaries of the combined effect.

Impact of the One Big Beautiful Bill Act and Tariffs by Industry
Expressed as a percentage share of 2025 expected revenues

Sources: UN Comtrade, Census Bureau, The White House, Bureau of Economic Research,
Internal Revenue Service, Corporate Reports, Empirical Research Partners Analysis and Estimates

 

Europe and Japan fared well, aided by fiscal policy stimulus and support from central banks.

Geopolitics & trade patterns

China’s second quarter GDP growth exceeded 5% and export activity was robust.  However, producer price inflation remained weak, raising concerns about long term corporate profit margins.  While Chinese exports to the US have slowed, shipments to Asia and Europe have increased, potentially creating competitive pricing pressures for local industries.

China GDP growth

Source: LSEG Datastream, Reuters (Kripa Jayaram)

Financial Markets:

Equities

Despite the geopolitical concerns, risk appetite remained, particularly for cyclical sectors.  Industrials gained from capital spending and financials benefited from rising interest margins, while technology stocks continued to see demand and earnings growth.  “Quality” firms – ie companies with strong balance sheets, consistent earnings, and high returns on equity – are well placed given the ongoing policy uncertainty and tariff risks.

Bonds

In general, bonds did not perform well due to the expectation of inflationary pressure and deficit concerns in the US.  Both US Treasuries and other developed market sovereign bonds saw yields rise and prices fall early in the quarter.

In the UK, the 30-year gilt yield climbed to 5.4%, complicating the UK government’s fiscal balancing act following the largest tax increase in budget history in 2024.

Largest tax increases in budget history
1970-2024 % of GDP(five years forward, historical or forecast)

Sources: OBR, ONS, the Economist

 

European government bonds fared better, supported by more investor friendly fiscal and monetary policies.

Currencies & Commodities

The US dollar extended its year long decline through much of the second quarter but staged a modest rally after the quarter end, indicating that its role as a safe haven for cash is not entirely gone.  Oil prices rose despite increased OPEC+ production, possibly reflecting concerns about the enforcement of secondary tariffs on Russian crude exports and continued geopolitical supply risks.  Gold and certain non US government bonds (Swiss, Japanese) remained resilient, as did the Japanese yen and Swiss franc.

 

Economic Environment:

US Fiscal Expansion

Trump’s “One Big Beautiful Bill” continued to drive debate over the sustainability of US public finances.  The expansionary stance – involving infrastructure projects, targeted subsidies, and selective tax incentives – added both a growth impulse and inflationary pressures to the economic outlook.

The US Federal Reserve (the Fed) maintained a “wait and see” approach, keeping policy rates steady while watching closely for any inflation spike linked to tariffs.  The central bank pushed back against political calls for immediate rate cuts, wary of undermining credibility in the face of potential upward price shocks.

US Core inflation remains above the Fed’s 2% target
Upper limit of Federal funds Rate,
Year on year growth of personal consumption expenditure price index excluding volatile food and energy prices

Source: US Bureau of Economic Analysis, Federal Reserve Economic Data

Global Monetary Stance

While the Fed kept interest rates on hold, both the European Central Bank and the Bank of Japan maintained easier monetary policies, creating divergences in global liquidity conditions.  These policy differentials, in turn, influenced currency trends and capital flows, supporting equity market performance outside the US.

US Federal Reserve and Europe’s ECB main policy interest rates (%)

Sources: Bank for International Settlements, Oxford Analytica

Outlook:

The second quarter rally masks the following ongoing potential risks:

Tariff impacts on inflation: The coming quarters may see a shift in sentiment as tariffs increasingly filter through to end prices, potentially tempering demand and corporate profit growth.  US consumers have yet to bear the full cost of higher imports, and this lag effect could dampen consumption later in 2025.

Geopolitical flashpoints: Multiple ongoing conflicts, particularly in the Middle East and Ukraine, pose risks that are not currently reflected in markets.

China’s deflation: Falling producer prices in China, while beneficial for global importers, may signal weaker profit margins and underused capacity in key sectors, posing risks to longer term growth.

 

Key thoughts for the second half of the year:

Focus on quality companies: In a climate where policy shocks are as likely to appear overnight as quarterly, companies with high returns on equity, strong balance sheets, and predictable earnings remain the most reliable sources of return.

Global diversification: Outperformance in Europe, Japan, and parts of Asia highlights the benefits of maintaining geographically diversified portfolios, especially while geopolitical risk is concentrated in the US.

Flexibility: With both equities and bonds showing unusual reactions to news flow, a multi asset approach and portfolio rebalancing are as important as ever.

 

Summary

In the period, equity market performance reflected the resilience of the global economy and the adaptability of global corporations.  Political noise and dramatic headlines were met with pragmatism by most businesses and markets rewarded earnings strength and long term strategic positioning.

Considering the second half of the year, the global macroeconomic picture remains complex but far from bleak.  The tariff shock has not derailed the economic cycle, at least not yet, and the resilience of equity markets suggests that investors are willing to look through near term noise and focus on core fundamentals.  However, the geopolitical unpredictability that Trump brings mean that conditions can shift quickly.

In uncertain times it is important to maintain a diversified, flexible approach.  The second quarter has reminded us that markets can thrive even amid geopolitical turbulence, but also that careful risk management remains key.  When presented with a market shock, it is important to avoid reactive decisions, stay focused on fundamentals, and be ready to take advantage of opportunities.